Multi-jurisdictional exposures to tax: the pitfalls
There are many pitfalls that can impact on clients with multi-jurisdictional exposures to tax. A common scenario involves a married couple with one spouse who is a US citizen and the other spouse who is a non-US citizen.
We recently advised a wealthy couple in this situation who had existing wills that had been put in place some time ago without any US/UK joined up estate planning. The Wills left all assets to the surviving spouse outright with gifts in substitution to children at the age of 25.
The structure of the existing wills could have had disastrous tax implications. As matters stood, although there would have been no charge to UK inheritance tax on the first death (because both spouses are domiciled in the UK and so the spousal exemption applies) there could have been a charge to US Estate Duty. This is because if the US citizen spouse dies first, the US would have denied the marital deduction from US Estate Duty on the outright transfer of assets to the non-US spouse. This situation would have led to the full use of the US citizen spouse's Estate and Gift Exempt Amount of €5.45 million when the assets were transferred to the surviving spouse together with a charge to US Estate Duty on the value of the balance. This is unattractive because there would be no ability to offset the US taxes against UK taxes under the relevant double tax treaty and then there would have been a further exposure to death duties (UK inheritance tax) on the surviving spouse's subsequent death.
In light of the above, we worked closely with US advisors to incorporate a qualified domestic trust (QDOT) into the US citizen spouse's will. The effect of this was to defer any charges to US tax until the death of the survivor of the two spouses. This means that death taxes will be payable in both jurisdiction on the same event (the death of the surviving spouse) thereby avoiding any form of double taxation.
Our advice also noted that the couple owned their London based matrimonial home in equal shares. We advised that this had the potential to cause difficulties in the event that the property was sold at a significant gain as the US only allows a taxpayer to make tax free gains of $250,000 on the sale of a property. Again, we worked closely the US advisors to gradually shift a greater share of the ownership of the property into the name of the non-US citizen spouse. The annual transfers did not attract taxes in the US or the UK and now mean that if the property is sold in the foreseeable future there will not be an exposure to US or UK capital gains tax.